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CFA Level 1 Practice Questions for Financial Statement Analysis
1. An analyst gathers the following information about a company:
The companys cash conversion cycle (in days) is closest to: A. 40. B. 59. C. 65. Answer: A Evaluate overall working capital effectiveness of a company, using the operating and cash conversion cycles, and compare its effectiveness with other peer companies. Calculate and interpret liquidity measures using selected financial ratios for a company and compare it with peer companies.
2. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. Two companies operating in the same industry both achieved the same return on equity with the same net sales, but the two companies were different with respect to return on total assets. Compared with the company that had the higher return on total assets, the company with the lower return on total assets most likely had a higher: A. total asset turnover. B. financial leverage multiplier. C. proportion of common equity in its capital structure.
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CFA Level 1 Practice Questions for Financial Statement Analysis Answer: B The DuPont system can be used to break down return on equity (ROE) into three components: Profit margin, total asset turnover, and financial leverage multiplier. The first two components can be multiplied to calculate the return on total assets (ROA). If the two companies have the same ROE, the company with the lower ROA must have a higher financial leverage multiplier (lower proportion of common equity in the capital structure). 3. If an analyst is preparing common-size financial statements the most appropriate way of expressing the interest expense is as a percentage of: A. sales. B. total liabilities. C. total interest-bearing debt. Answer: A Interest expense is an income statement account and the common-size percentage should be computed as a percentage of sales for that company. 4. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst gathers the following information about three equipment sales that a company made at the end of the year:
All else equal for that year, the companys cash flow from operations will most likely be: A. the same as net income. B. $40,000 less than net income C. $140,000 less than net income.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: B Equipment sale 1 results in a gain of $20,000, sale 2 results in a gain of $30,000, and By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose. sale 3 results in a loss of $10,000. The net gain is $40,000. The amount that would be deducted from net income to determine cash flow from operations is equal to the net gain of $40,000. 5. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. The following information is from a companys 2008 financial statements ($ millions):
In 2008 the company declared and paid cash dividends of $5 million and recorded depreciation expense in the amount of $25 million. The companys 2008 cash flow from operations ($ millions) is closest to: A. 25. B. 30. C. 35. Answer: C The change in retained earnings is $20 and dividends are paid from retained earnings. 2008 net income equals the change in retained earnings plus any dividends paid By accessing this mock exam, you agree to the following terms of use: This mock exam is provided to currently-registered CFA candidates. Candidates may view and print the exam for personal exam preparation only. The following activities are strictly prohibited and may result in disciplinary and/or legal action: accessing or permitting access by anyone other than currently-registered CFA candidates; copying, posting to any website, emailing, distributing and/or reprinting the mock exam for any purpose. during 2008. Depreciation expense is added to net income and the changes in balance sheet accounts are also considered to determine cash flow from operations. $20 + 5 (dividends) + 25 (depreciation) 5 (increase in receivables) 3 (increase in inventory) 7 (decrease in payables) = $35 million.
CFA Level 1 Practice Questions for Financial Statement Analysis 6. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company using the LIFO inventory method reports a LIFO reserve at year-end of $85,000, which is $20,000 lower than the prior year. If the company had used FIFO instead of LIFO in that year, the companys financial statements would have reported: A. a lower cost of goods sold, but a higher inventory balance. B. a higher cost of goods sold, but a lower inventory balance. C. both a higher cost of goods sold and a higher inventory balance. Answer: C The negative change in the LIFO reserve would increase the cost of goods sold under FIFO compared to LIFO. FIFO COGS = LIFO COGS Change in LIFO reserve. The LIFO reserve has a positive balance so that FIFO inventory would be higher than LIFO inventory. FIFO inventory = LIFO inventory + LIFO reserve. 7. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. The year-end balances in a companys LIFO reserve are $56.8 million in the companys financial statements for both 2007 and 2008. For 2008, the measure that will most likely be the same regardless of whether the company uses the LIFO or FIFO inventory method is the: A. inventory turnover. B. gross profit margin. C. amount of working capital. Answer: B The LIFO reserve did not change from 2007 to 2008. Without a change in the LIFO reserve, cost of goods sold would be the same under both methods. Sales are always the same for both; so gross profit margin would be the same in 2008. The FIFO inventory would be higher because the LIFO inventory and LIFO reserve are added to compute FIFO inventory. Because the inventory balances would be different under FIFO, inventory turnover, and net working capital would also be different under FIFO.
CFA Level 1 Practice Questions for Financial Statement Analysis 8. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst gathers the following information about a company:
The bonds were issued at par and can be converted into 300,000 common shares. All securities were outstanding for the entire year. Diluted earnings per share is closest to: A. $1.05. B. $1.26. C. $1.36. Answer: B Dividends of $140,000 (0.07 x 2,000,000) should be deducted from net income to determine the amount available to common shareholders: $1,360,000 = (1,500,000 140,000). Basic EPS would be $1,360,000 / 1,000,000 or $1.36 per share. Diluted EPS would consider the convertible bonds if they were dilutive. Interest on the bonds is $400,000 and the after-tax amount add back to net income is $400,000 (1-.30) = $280,000. Diluted EPS, assuming conversion, is ($1,360,000 + 280,000) / (1,000,000 +300,000) = 1,640,000/1,300,000= $1.26 per share. The bonds are dilutive. 9. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. At the beginning of the year, two companies issued debt with the same market rate, maturity date, and total face value. One company issued coupon-bearing bonds at par and the other company issued zerocoupon bonds. All other factors being equal for that year, compared with the company that issued par bonds, the company that issued zero-coupon debt will most likely report: A. higher cash flow from operations but not higher interest expense. B. both higher cash flow from operations and higher interest expense. C. neither higher cash flow from operations nor higher interest expense. Answer: A When a company issues a zero-coupon bond, cash flow from operations is overstated over the life of the bond. Interest expense is recorded for income statements purposes, but is added back in the statement of cash flows as a non-cash adjustment to cash flow from operations.
CFA Level 1 Practice Questions for Financial Statement Analysis 10. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. Which of the following is the simplest way for a company to increase its reported operating cash flow? A. Record sales on a bill-and-hold basis. B. Slow down the rate of payment to suppliers. C. Use a third party financial institution to pay suppliers. Answer: B Slowing down the rate or payments to suppliers is the simplest way to increase reported operating cash flow. 11. When the financial statements materially depart from accounting standards and are not fairly presented, the audit opinion would be a(n): A. adverse opinion. B. qualified opinion. C. disclaimer of opinion. Answer: A An adverse opinion occurs when the financial statements materially depart from accounting standards and are not fairly presented. A qualified opinion is one in which there is some limitation or exception to accounting standards. 12. An issue subject to a vote at a stockholders meeting is presented in a(n): A. interim report. B. proxy statement. C. management statement of responsibility. Answer: B Proxy statements are prepared and distributed to shareholders on matters that are to be put to a vote at shareholder meetings.
CFA Level 1 Practice Questions for Financial Statement Analysis 13. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company acquires a manufacturing facility in which it will produce toxic chemicals. The cost of the facility (exclusive of the underlying land) is $25 million and it is expected to provide a 10-year useful life, after which time the company will demolish the building and restore the underlying land. The cost of this restoration and cleanup is estimated to be $3 million at that time. The facility will be amortized on a straight-line basis. The companys discount rate associated with this obligation is 6.25 percent. The total expense that will be recorded in the first year associated with the asset retirement obligation on this property is closest to: A. $163,618. B. $224,945. C. $265,879. Answer: C The PV of the future cleanup costs = 1,636,183 (FV = 3,000,000; N = 10; I/Y = 6.25; PMT = 0; CPT PV). The firm will record asset retirement costs of $1,636,183 as part of the cost of the property and a corresponding ARO liability of $1,636,183. The asset retirement costs will be amortized at the same rate as the property (10 years, straight-line) and an accretion expense representing the change in the ARO liability will also arise. 14. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company receives a payment of $10,000 on 1 December, for rent on a property for December and January. On receipt, they correctly record it as cash and unearned revenue. If at 31 December, their year-end, they failed to make an adjusting entry related to this payment, ignoring taxes, what is the effect on the financial statements for the year? A. Assets are overstated by $5,000 and Liabilities are overstated by $5,000 B. Assets are overstated by $5,000 and Owners equity is overstated by $5,000 C. Liabilities are overstated by $5,000 and Owners equity is understated by $5,000 Answer: C The company should have made an adjusting entry to reduce the Unearned revenue account (a liability) by $5,000 and increase Revenue, (and hence net income and retained earnings) by $5,000. As the company failed to make the adjusting entry the liabilities are overstated and owners equity is understated.
CFA Level 1 Practice Questions for Financial Statement Analysis 15. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst gathers the following information from a companys accounting records (all figures in thousands):
The analysts estimate of net income ($ thousands) for 2008 is closest to: A. 650. B. 850. C. 1,050. Answer: C Total assets = liabilities + owners equity. Owners equity = $5,250 2,200= 3,050. Owners equity = contributed capital + ending retained earnings. Ending retained earnings = 3,050 1,400= 1,650. Ending retained earnings = beginning retained earnings + net income dividends. 1,650= 800 + net income 200; Net income = $1,050 16. Which of the following is least likely to be a characteristic of an effective financial reporting framework? A. Consistency. B. Comparability. C. Comprehensiveness. Answer: B The characteristics of a coherent financial reporting network are transparency, comprehensiveness and consistency. Comparability is a qualitative characteristic of financial statements.
CFA Level 1 Practice Questions for Financial Statement Analysis 17. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst gathers the following data about a company and the industry in which it operates:
Which of the following conclusions is most reasonable? Compared to the industry, the company: A. has the same cost structure and net profit margin. B. has a lower gross profit margin and spends more on its operating costs. C. is better at controlling product costs, but less effective at controlling operating costs. Answer: C
18. A European based company follows IFRS (International Financial Reporting Standards) and capitalizes new product development costs. During 2008 they spent 25 million on new product development and reported an amortization expense related to a prior years new product development of 10 million. Other information related to 2008 is as follows:
An analyst would like to compare the European company to a similar U.S. based company and has decided to adjust their financial statements to U.S. GAAP. Under U.S. GAAP, and ignoring tax effects, the cash flow from operations ( millions) for the company would be closest to: A. 265. B. 275.
CFA Level 1 Practice Questions for Financial Statement Analysis C. 290. Answer: A Compute and describe the effects of capitalizing versus expensing on net income, shareholders equity, cash flow from operations, and financial ratios including the effect on the interest coverage ratio of capitalizing interest costs. Explain the circumstances in which software development costs and research and development costs are capitalized If all development costs had been expensed then net income would be reduced by the amount spent, and increased by the amortization of the previously capitalized amounts: 225 25 + 10 = 210 million. CFO would be lower by the amount spent on development 290 25 = 265 million. Note: The amortization of previous development costs is a non-cash expense so does not affect cash flow. 19. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. Which of the following best describes taxes payable? A. Total liability for current and future taxes. B. Tax return liability resulting from current period taxable income. C. Actual cash outflow for income taxes including payments (refunds) for other years. Answer: B Taxes payable is the current liability resulting from the current period taxable income based on the companys tax rate and the portion of its income that is subject to income taxes under the tax laws of the jurisdiction. 20. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company is considering issuing either a straight coupon bond or a coupon bond with warrants attached. The proceeds from either issue would be the same. If the firm issues the bond with warrants attached instead of the straight coupon bond, which of the following ratios will most likely be lower for the bond with warrants? A. Return on assets. B. Debt to equity ratio C. Interest coverage ratio. Answer: B The portion of the proceeds attributable to the warrants would be classified as equity, thus the portion classified as a liability would be smaller (lower). Therefore the debt-to-equity ratio will be lower, for the
CFA Level 1 Practice Questions for Financial Statement Analysis bonds with warrants. EBIT would be the same regardless of financing method; the coupon on the bond with warrants attached would be lower if the two issues provided the same proceeds, so the interest coverage would be higher for a bond with warrants attached. Since interest expense would be lower for a bond with warrants attached, Net Income would be higher and ROA would be higher. 21. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst is forecasting EPS for a company. She prepares the following common sized data from its recent annual report and estimates sales for 2009.
The capital structure of the company has not changed and the company has no short-term interest bearing debt outstanding. The projected net income (in $ millions) for 2009 is closest to: A. 162.8. B. 164.9. C. 167.4. Answer: C The cost of goods sold and operating expenses are constant over the two-year period and they can reasonably be used to forecast 2009. Interest expense is declining as a percent of sales, implying it is a fixed cost. Conversion into dollars for each year shows what interest expense has been; 2008 =$80 (3.72% x 2,150); 2007=$80 (4.02 x 1,990) and that would be a reasonable projected amount to use. The restructuring charge should not be included as it is a non-recurring item. The tax rate, 35%, is given. Sales $2,250.00 COGS (45%) 1,012.50 Operating expenses (40%) 900.00 Interest expense 80.00 Pretax margin 257.50 Tax (35%) 90.1 Net Income 167.40
CFA Level 1 Practice Questions for Financial Statement Analysis 22. The unrealized gains and losses arising from changes in the market value of available-for-sale securities are reported under U.S. GAAP and International Financial Reporting Standards (IFRS) in the: A. equity section for both. B. equity section for U.S. GAAP and the income statement for IFRS. C. income statement for U.S. GAAP and the equity section for IFRS. Answer: A Under both U.S. GAAP and IFRS the unrealized gains and losses arising from carrying available-for-sale securities at market value are reported in equity as part of accumulated other comprehensive income. 23. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company records the following two transactions:
Which of the above transactions will most likely give rise to a deferred tax liability on the balance sheet? A. I only. B. II only. C. Both I and II. Answer: B II represents a deferred tax liability: The accounts receivable for financial statement purposes has a carrying value of 500,000 but with a tax base of 0. The temporary difference creates a deferred tax liability. Alternatively, accounting income tax expense exceeded taxes payable and the firm expects to eliminate this difference over the course of future operations. Item I represents a deferred tax asset: Rent received in advance creates a liability on the financial statements with a carrying value of 300,000 but with a tax base of 0. The temporary difference creates a deferred tax asset. Alternatively an excess amount has been paid for income taxes based on the cash received (taxable income exceeded accounting income) and the company expects to recover this difference during the course of future operations.
CFA Level 1 Practice Questions for Financial Statement Analysis 24. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. On 1 January 2008 a company enters into a lease agreement to lease a piece of machinery as the lessor with the following terms:
The total affect on 2008 pre-tax income for the lessor from this lease is closest to: A. $32,143. B. $75,000. C. $82,519. Answer: C This is a sales type lease: the lease period covers more than 75% of its useful life (6/7=85.7%) and the asset is on its books at less than the present value of the lease payments ($357,490) (PMT = $75,000, N=6, i=7%). The firm must have acquired or manufactured the asset if it is recorded at less than the present value of the lease payments. The income in the first year will therefore consist of the gross profit on the sale (357,490-300,000)=57,490 plus interest revenue from financing the lease = 25,024(see below) Total income = 57,490 + 25,024 = 82,514 25. An analyst finds information about significant uncertainties affecting a companys liquidity, capital resources and results of operations in the: A. notes to the financial statements. B. balance sheet and income statement. C. management discussion and analysis. Answer: C Management must highlight any favorable and unfavorable trends and identify significant events and uncertainties that affect the companys liquidity, capital resources and results of operations in the management discussion and analysis (MD&A).
CFA Level 1 Practice Questions for Financial Statement Analysis 26. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. Which of the following is least likely to be classified as a financial statement element? A. Asset. B. Revenue. C. Net income. Answer: C Net income is not an element of the financial statements, but the net result of revenues less expenses. The elements are: assets, liabilities, owners equity, revenue and expenses. 27. An analyst prepares common-size balance sheets for two companies operating in the same industry. The analyst notes that both companies had the same proportion of current liabilities, long-term liabilities, and shareholders equity and the following ratios:
The most reasonable conclusion is that, compared with Company 2, Company 1 had a: A. higher percentage of assets associated with inventory. B. higher percentage of assets associated with accounts receivable. C. lower percentage of assets associated with marketable securities. Answer: A The current ratio includes inventory but the quick ratio does not. (Current ratio is higher than quick ratio and quick ratio is higher than cash ratio.) The quick ratio includes accounts receivable but the cash ratio does not. The denominator for all three ratios is current liabilities, which are the same proportion for both companies. The difference in ratios is therefore created by inventory and accounts receivable. Company 1 has the higher percentage of inventory because the difference between the current ratio and quick ratio is greater for that company. Company 2 had the higher percentage of accounts receivable because the difference between the quick ratio and the cash ratio is greater for Company 2.
CFA Level 1 Practice Questions for Financial Statement Analysis 28. If a company has a current ratio of 2.0, the effect of repaying $150,000 in short-term borrowing will most likely decrease: A. the current ratio, but not the cash flow from operations. B. the cash flow from operations, but not the current ratio. C. neither the current ratio nor the cash flow from operations. Answer: C The repayment of short-term debt would reduce cash flow from financing, not cash flow from operations. Any time the current ratio is above 1, equal changes in a current asset and a current liability will result in an increase in the current ratio: if current assets = 550 and current liabilities are 275, current ratio = 550/275 = 2.0. After the bank borrowing has been paid, the ratio becomes (550150)/(275-150) = 3.2. Had the ratio initially been below 1, current assets = 250 and current liabilities are 275, current ratio = 250/275 = 0.91, the equal change in current assets and liabilities would decrease the current ratio: 100/125=0.80. 29. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. At the end of the year, a company sold equipment for $30,000 cash. The company paid $110,000 for the equipment several years ago and had recorded accumulated depreciation of $70,000 at the time of its sale. All else equal, the equipment sale will result in the companys cash flow from: A. investing activities increasing by $30,000. B. investing activities decreasing by $10,000. C. operating activities being $10,000 less than net income. Answer: A The book value of the equipment at the time of sale is $110,000 - $70,000 = $40,000. The proceeds are $30,000; therefore a loss of $10,000 is reported on the income statement. The loss reduces net income, but it is a non-cash amount, so is added back to net income in the calculation of the cash from operations. Therefore, cash from operations is higher than net income, not lower. The total amount of the proceeds, $30,000, is the cash inflow from the transaction and is shown as a cash inflow from investing activities.
CFA Level 1 Practice Questions for Financial Statement Analysis 30. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company reports net income of $800,000 for the year. The table below indicates selected items which were included in net income and their associated tax status.
The companys tax rate is 35 percent. The companys current income taxes payable (in $) is closest to: A. 206,500. B. 276,500. C. 360,500. Answer: B
31. An analyst gathers the following annual information ($ millions) about a company that pays no dividends and has no debt:
The companys annual free cash flow to equity ($ millions) is closest to:
CFA Level 1 Practice Questions for Financial Statement Analysis A. 53.1. B. 58.4. C. 61.6. Answer: C Free cash flow to equity in a company without any debt is equal to cash flow from operations (CFO) less capital expenditures. CFO = net income + depreciation + loss on sale of equipment + decrease in accounts receivable increase in inventories + increase in accounts payable. (The loss on sale of equipment is added back when calculating CFO. It would have been deducted in the calculation of net income but the loss is not the cash impact of the transaction (the proceeds received, if any, would be the cash effect) and cash flows related to equipment transactions are investing activities, not operating activities. CFO = 45.8 + 18.2 +1.6 + 4.2 3.4 +2.5 = $68.9 million $68.9 $7.3 = $61.6 million free cash flow to equity. 32. Which of the following statements best describes the level of accuracy provided by a standard audit report with respect to errors? The audited financial statements are: A. fully assured to be free of material errors. B. reasonable assured to be free of all errors. C. reasonable assured to be free of material errors. Answer: C Audits provide reasonable assurance that the financial statements are fairly presented, meaning that there is a high degree of probability that they are free of material error, fraud or illegal acts. 33. Making any necessary adjustments to the financial statements to facilitate comparison with respect to accounting choices is done in which step of the financial statement analysis framework? A. Collect data. B. Process data. C. Analyze/interpret the processed data. Answer: B Making any adjustments is part of the processing data step. Commonly used data bases (part of the collection phase) do not make adjustments for differences in accounting choices.
CFA Level 1 Practice Questions for Financial Statement Analysis 34. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. For the most recent year a manufacturing company reports the following items on their income statement: Interest expense $62,500 Loss on disposal of fixed assets $50,000 Realized gain on sale of available-forsale securities $17,750 Which of the items is classified as an operating item in the companys income statement? A. Interest expense. B. Loss on disposal of fixed assets. C. Realized gain on sale of available-for-sale securities. Answer: B The loss on the disposal of fixed assets is an unusual or infrequent item but it is still part of normal operating activities. The interest expense is the result of financing activities and would be classified as a nonoperating expense by nonfinancial service companies. The realized gain on sale of available for sale securities is an investing activity and would also be classified as a nonoperating gain by a manufacturing company. 35. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. The following information is available from the accounting records of a company as at 31 December 2008 (all figures in $ thousands):
The working capital for the company (in $ thousands) is closest to: A. 64. B. 72. C. 176. Answer: A
36. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. During late December 2008 Company A acquires a small competitor, Company B. During the evaluation of the acquisition it is determined that the customer lists of Company B have a fair value of $50,000. Company A has spent $15,000 during the year updating and maintaining its own customer lists. What will be the value of the customer list intangible asset on Company As 31 December 2008 consolidated financial statements? A. $15,000. B. $50,000. C. $65,000. Answer: B The purchased customer list is an identifiable intangible because it can be sold separately from the company and it would be recorded at its fair market value, the amount paid for it in the acquisition, $50,000. The amount spent by Company A on its own lists, $15,000, would have to be expensed because internally generated intangibles are not capitalized. 37. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company has equipment with an original cost of $850,000, accumulated amortization of $300,000 and 5 years of estimated remaining useful life. Due to a change in market conditions the company now estimates that the equipment will only generate cash flows of $80,000 per year over its remaining useful life. The companys incremental borrowing rate is 8 percent. Which of the following statements concerning impairment and future return on assets (ROA) is most accurate? The asset is: A. impaired and future ROA increases. B. impaired and future ROA decreases.
CFA Level 1 Practice Questions for Financial Statement Analysis C. not impaired and future ROA increases. Answer: A The equipment is impaired. NBV = $550,000 which is greater than the sum of the undiscounted cash flows 5 yrs x $80,000 = $400,000. The companys future ROA will increase. Once the asset is written down, there will be lower depreciation charges, which will increase net income, and a lower carrying value of assets, which decreases total assets. Both factors would increase any future ROA. 38. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. On 1 January 2008 a company enters into a lease agreement to lease a piece of machinery as the lessor with the following terms:
Which of the following best describes the classification of the lease on the companys financial statements for 2008? A. Operating lease. B. Sales type lease. C. Direct financing lease. Answer: B It is a sales type lease: the lease period covers more than 75% of its useful life (5/6=83.3%) and the asset is on its books at less than the present value of the lease payments ($199,635) (PMT = $50,000, N=5, i=8%). The firm must have acquired or manufactured the asset if it is recorded at less than the present value of the lease payments. 39. Which of the following is the most useful to an analyst assessing the credit worthiness of a company? Information related to: A. operating cash flow. B. the scale and diversity of a companys operations. C. operational efficiency of the companys operations.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: A Credit analysis is concerned with a companys debt-paying ability. Returns to creditors are normally paid in cash, so the companys ability to generate cash internally is the most important factor in credit analysis. 40. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company acquires some new depreciable assets. Which of the following combinations of estimated salvage value and useful life will most likely produce the highest net profit margin? A. low salvage value estimates and long average lives. B. high salvage value estimates and long average lives. C. high salvage value estimates and short average lives. Answer: B A high salvage value estimate reduces the depreciable base and thus depreciation expense; long average lives reduce the annual depreciation expense for any given depreciable base. The combination of the two would result in the lowest depreciation expense which leads to the highest net income and profit margins. 41. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst gathers the following information about a company ($ millions):
If the company uses the FIFO inventory method instead of LIFO, the companys 2008 gross profit margin is closest to: A. 22.9%. B. 29.8%. C. 33.2%.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: C
42. Which of the following will most likely be an incentive for management to underreport earnings? A. Meeting analysts expectations. B. Contract negotiations with unions. C. Meeting restrictive debt covenants. Answer: B Management is most likely to try and report lower earnings when negotiating concessions from a union. 43. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. A company uses the LIFO inventory method, but most of the other companies in the same industry use FIFO. Which of the following best describes one of the adjustments that would be made to the companys financial statements to compare it with other companies in the industry? The amount reported for the companys ending inventory should be: A. increased by the ending balance in its LIFO reserve. B. decreased by the ending balance in its LIFO reserve. C. increased by the change in its LIFO reserve for that period. Answer: A LIFO Reserve = FIFO Inventory LIFO Inventory Adding the ending balance in the LIFO reserve to the LIFO inventory would equal the ending balance for inventory on a FIFO basis.
CFA Level 1 Practice Questions for Financial Statement Analysis 44. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. An analyst gathers the following information about a company:
Using the treasury stock method, the number of incremental shares used to compute diluted earnings per share is closest to: A. 5,000. B. 15,000. C. 20,000. Answer: A Diluted EPS is calculated using the treasury stock method that considers what would be the effect if the options or warrants had been exercised. Only options or warrants that are in-the-money are included, as out-of-the-money options would not be exercised. Therefore only the warrants are dilutive: their exercise price is below the average market price of the stock. Using the treasury stock method, the number of new shares issued on exercise is reduced by the number of shares that could be purchased with the cash received upon exercise of the warrants: 20,000($30) = $600,000 in proceeds. $600,000 / $40 = 15,000 shares treasury stock. Incremental shares using the treasury stock method = 20,000 15,000 = 5,000. 45. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. At the beginning of the year, a lessee company enters into a new lease agreement that is correctly classified as a finance lease, with the following terms:
With respect to the effect of the lease on the companys financial statements in the first year of the lease, which of the following is most accurate? The reduction in the companys: A. pretax income is $72,096. B. cash flow from financing is $56,742. C. cash flow from operations is $72,096.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: B The present value of the lease is $360,477.62. (n = 5, I = 12%, PMT = $100,000) 12% of the original PV is $43,257.31 and represents the interest component of the payment in the first year. The difference between the annual payment and the interest is the amortization of the lease obligation included in cash flow from financing. $100,000 43,257.31 = $56,742.69. Depreciation is $360,477.62 / 5 or $72,095.52 so the total reduction in pretax income would be interest plus depreciation or $115,352.83. Cash flow from operations would be reduced by the amount of the interest only because the depreciation would be added back to determine cash flow from operations. 46. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. The following information relates to a profitable company that offers a warranty on a new product introduced in 2008:
If the companys tax rate is 35 percent, which of the following most accurately describes the deferred tax recorded in 2008 with respect to the new product warranty? A. Deferred tax asset of $35,000. B. Deferred tax asset of $65,000. C. Deferred tax liability of $35,000. Answer: A For financial statement purposes, the warranty expense recorded in 2008 is greater than the cash expense they incurred (and that is allowed as a deduction for income tax purposes), resulting in a warranty liability for financial statement purposes, but not for tax purposes. As the carrying amount of the liability is greater than the tax base, the $100,000 temporary difference will give rise to a $35,000 (100,000 x 0.35) deferred tax asset. 47. Assume U.S. GAAP (generally accepted accounting principles) applies unless otherwise noted. At the beginning of the year, a company issues a $1,000 face value, semiannual coupon, bond with an 8 percent coupon rate maturing in 10 years. The annual market rate of interest at issuance was 12 percent. The initial liability recorded for this bond is closest to: A. $771. B. $774. C. $1,000.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: A The liability recorded is based on market rates of interest when the bond is issued and not the coupon rate on the bond. The market value of the bond at issuance was $770.60. (FV=1,000, PMT=40, N=20, I=6.0). 48. Financial reporting standards are most likely enforced by: A. both standard-setting bodies and regulatory bodies. B. regulatory authorities, such as the SEC and IOSC, only. C. standard-setting bodies, such as the FASB and IASB, only. Answer: B 49. According to the International Financial Reporting Standards framework, which of the following qualities of financial information is least likely to improve its reliability? A. Neutrality B. Consistency C. Substance over form Answer: B The IFRS framework identifies five factors that contribute to reliability: faithful representation, substance over form, neutrality, prudence and completeness. Consistency is not one of them. 50. The following information is available about a company ($ millions):
During 2009 the company most likely decreased the: A. proportion of sales made on a cash basis. B. inventory, anticipating lower demand for its products in 2010. C. proportion of interest-bearing debt relative to trade accounts payable.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: A Sales, net income, and net margin are relatively constant for the two years. The substantial drop in cash flow from operations could be attributed to an increase in receivables and/or inventory. A decrease in the proportion of cash sales implies an increase in the proportion of credit sales, increasing accounts receivable. An increase in accounts receivable would decrease cash flow from operations. 51. According to International Financial Reporting Standards which of the following is one of the conditions that must be met for revenue recognition to occur? A. Costs can be reliably measured B. Payment has been partially received C. Goods have been delivered to the customer Answer: A The IASBs conditions that must be met include that the costs incurred can be reliably measured, there is assurance of payment, not necessarily an actual receipt of any payment, and that the significant risks and rewards of ownership have been transferred, which is normally (but not always) when the goods have been delivered. 52. A company accrued wages of $2,000 and collected accounts receivable of $10,000. Which of the following best describes the effect of these two transactions on the company? A. B. C. Net income will increase Current ratio will decrease Cash from operations will decrease
Calculate, classify, and interpret activity, liquidity, solvency, profitability, and valuation ratios. Accruing wages increases current liabilities and expenses, but collecting receivables has no effect on current assets or sales therefore the current ratio and net income both decrease. Collecting accounts receivable increases cash flow from operations and accruing wages increases current liabilities, which also increases cash flow from operations so cash from operations will increase not decrease.
CFA Level 1 Practice Questions for Financial Statement Analysis 53. A company had 100,000 common shares outstanding on 1 January 2009. The company has no plans to issue additional shares or purchase treasury shares during the year, but is planning either a twofor-one stock split or a 100 percent stock dividend on 1 July. The number of shares used to determine earnings per share at 31 December 2009, will be closest to: A. B. C. 200,000 for both the stock split and the stock dividend. 200,000 for the stock split and 150,000 for the stock dividend. 150,000 for the stock split and 200,000 for the stock dividend.
Answer: A Describe the components of earnings per share and calculate a companys earnings per share (both basic and diluted earnings per share) for both a simple and complex capital structure. Stock dividends and stock splits are treated in the same way for purposes of determining weighted average number of shares outstanding; the adjustment in the number of shares is made as if the stock split or dividend occurred at the beginning of the year. 54. Under International Financial Reporting Standards (IFRS) the preparation of a complete set of financial statements is best described as a(n): A. objective of financial reporting. B. general requirement for financial statements. C. qualitative characteristic of the IFRS Framework. Answer: B The preparation of a complete set of financial statements is a general requirement for financial statements. 55. Which of the following transactions will most likely result in a decrease in a companys current ratio? The: A. recording of a warranty expense. B. recording of revenue before cash is received. C. payment of a property insurance policy for the following year. Answer: A Illustrate and interpret the components of the balance sheet, and discuss the uses of the balance sheet in financial analysis.
CFA Level 1 Practice Questions for Financial Statement Analysis Calculate, classify and interpret activity, liquidity, solvency, profitability, and valuation ratios. The recording of a warranty expense will create a warranty liability and the resulting increase in current liabilities will decrease the current ratio. 56. A company issued bonds in 2009 that mature in 2019. The measurement basis that will most likely be used on the 2009 balance sheet for the bonds is: A. market value. B. historical cost. C. amortized cost. Answer: C Bonds payable issued by a company are financial liabilities that are measured at amortized cost. 57. Which of the following transactions is least likely to increase a companys reported cash from operations? A. Securitizing accounts receivable B. Delaying payments made to suppliers C. Using short-term debt to reduce an existing account payable Answer: C Using short-term debt to pay down payables will have no effect on the cash from operations. Payables will decrease which decreases cash from operations, but short-term debt will increase, which is an offsetting increase in cash from operations, resulting in no net effect on cash from operations. 58. The settlement value for a liability is best described as: A. B. the amount of proceeds received in exchange for the obligation. the discounted value of the future cash flows that are required to satisfy the obligation.
C. the undiscounted amount of cash or cash equivalents expected to be paid to satisfy the obligation. Answer: C The settlement value for a liability is the undiscounted amount of cash or cash equivalents expected to be paid to satisfy the liabilities in the normal course of business.
CFA Level 1 Practice Questions for Financial Statement Analysis 59. A company has just completed the sale of a tract of land for 3.5 million which was originally acquired at a cost of 2.0 million. The purchaser made a down-payment of 200,000 with the remainder to be paid in equal installments over the next 10 years. A short time after the sale, significant doubt arose about the purchasers ability to meet the future obligations for the land purchase. When compared to the cost recovery method of revenue recognition, the profit (in ) that the company will recognize in the year of the sale under the installment method is most likely to be higher by: A. 85,714. B. 114,286. C. 150,000. Answer: A
60. Presented below are abbreviated balance sheets for two merchandising companies following the format found in each of their annual reports.
CFA Level 1 Practice Questions for Financial Statement Analysis Which of the companies most likely prepares their financial statements in accordance with U.S. GAAP (generally accepted accounting principles)? A. Both B. Company A only C. Company B only Answer: C Company A prepares its financial statements under IFRS while company B uses U.S. GAAP. The common practice under IFRS presentation is to present noncurrent assets before current assets and long term liabilities before current ones. Minority interest must be shown as a component of equity under IFRS. Under U.S. GAAP, current assets are presented before long term assets and current liabilities before long term ones; under U.S. GAAP, minority interest is often shown in-between liabilities and equity (although it could also be shown as an equity component). 61. An analyst makes the appropriate adjustments to the financial statements of retail companies that are lessees using a substantial number of operating leases. Compared to ratios computed from the unadjusted statements, the ones computed from the adjusted statements would most likely be higher for: A. the debt-equity ratio but not the interest coverage ratio. B. the interest coverage ratio but not the debt-equity ratio. C. both the debt-equity ratio and the interest coverage ratio. Answer: A The adjustments to convert operating leases into capital leases would increase the amount of total debt in the debt-equity ratio thus increasing the ratio; the portion of the lease payment estimated to be lease interest expense would lower the interest coverage ratio. 62. To gain insight into what portion of a companys assets is liquid, an analyst will most likely use: A. the cash ratio. B. the current ratio. C. common-size balance sheets. Answer: C Compare a companys liquidity measures with those of peer companies.
CFA Level 1 Practice Questions for Financial Statement Analysis A common-size balance sheet expresses all balance sheet accounts as a percentage of total assets. 63. An analyst gathers the following information ($ millions) about three companies operating in the same industry:
Although the companies have different levels of sales and assets, they are all experiencing sales growth at about the same rate and use the same type of equipment in the manufacturing process. All three companies also use the same depreciation method. Which company is least likely to require major capital expenditures in the near future? Company: A. 1. B. 2. C. 3. Answer: B Discuss the use of fixed asset disclosures to compare companies average age of depreciable assets, and calculate, using such disclosures, the average age and average depreciable life of fixed assets.
CFA Level 1 Practice Questions for Financial Statement Analysis 64. The following information (U.S. $ millions) for two companies operating in the same industry during the same time period is available:
If both companies achieve a return on equity of 15% for the period, which of the following statements is most likely correct? Compared to Company B, Company A has a: A. higher net profit margin. B. higher total asset turnover. C. lower financial leverage multiplier. Answer: A
65. Is the reversal of an inventory write-down permitted under U.S. GAAP (generally accepted accounting principles) and International Financial Reporting Standards (IFRS)? A. No, under both B. Yes, under both C. Yes under IFRS but not under U.S. GAAP Answer: C The reversal of an inventory write-down is permitted under IFRS but not under U.S. GAAP.
CFA Level 1 Practice Questions for Financial Statement Analysis 66. A retail company prepares its financial statements in accordance with U.S. GAAP (generally accepted accounting principles). Its purchases and sales of inventory for its first two years of operations are listed below.
In its second year of operation, the companys ending inventory is $348,003. Which of the following inventory cost flow assumptions is the company was most likely using? A. FIFO B. LIFO C. Weighted average cost Answer: C The company is accounting for its inventory using the weighted average cost method. In the 2nd year of operations, under Weighted Average Cost: Units available for sale include ending inventory from year 1 plus purchases for year 2: 7,000 + 100,000 = 107,000 Cost of Goods Available for Sale: 7,000 x $8.43 + 100,000 x $12.25 = $1,284,000 Unit Cost: $1,284,000/107,000 = $12.00 End Inventory = 107,000 78,000 = 29,000 units. $12.00 x 19,000 = $348,003 67. A company issued a $50,000 7-year bond for $47,565. The bonds pay 9 percent per annum and the yield-to-maturity at issue was 10 percent. The company uses the effective interest rate method to amortize any discounts or premiums on bonds. After the first year, the yield to maturity on bonds equivalent in risk and maturity to these bonds is 9 percent. The amount of the bond discount amortization ($) recorded in the second year is closest to: A. B. C. 282. 348. 2,178.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: A Interest paid = Market rate at issue x Issued amount of bonds = 9% x $50,000 Interest expense = Market rate at issue x Carrying (BV) of bonds Amortization of discount = Interest expense -Interest paid Year Interest Interest Amortization Carrying Paid Expense of Discount Value 0 47,565 1 4,500 4,757 257 47,822 2 4,500 4,782 282 48,104 Amortization in the 2nd year is 282 68. The following selected information is from a companys most recent financial statements:
The 2009 cash conversion cycle, in days, is closest to: A. 23. B. 26. C. 28. Answer: A Activity Ratios Calculation Inventory Turnover 7.39 COGS/Average Inventory 1969/(248+285)/2 DOH (days on hand) 49.4 365/Inventory Turnover 365/7.39 Receivable Turnover 9.27 Sales/Average Receivables 2801/(318+286)/2
CFA Level 1 Practice Questions for Financial Statement Analysis 69. In the evaluation of credit ratings, a company will most likely be assigned a higher credit rating if it has a: A. lower EBITDA/Interest ratio. B. lower dividends-to-total-debt ratio. C. higher five year average of its coefficient of variation of its operating margin. Answer: B A lower dividend means more retention and increased equity: higher retained cash flow will result in a higher credit rating 70. A company purchased a 2,000 million long-term asset in 2009 when the corporate tax rate was 30 percent.
On January 15, 2010 the government lowered the corporate tax rate to 25 percent for 2010 and beyond. The deferred tax liability () as at 31 December 2010 is closest to: A. B. C. 130. 156. 205.
Answer: A The deferred tax liability equals the difference between the value for accounting and the value for tax times the current tax rate in effect. (1,800 1,280) x 0.25 = 520 x 0.25 = 130 71. Which of the following is least likely a condition present in a fraud triangle? A. B. C. Constraining debt covenants. Adding independent members to the Board of Directors. Managements belief that a decline in performance is due to temporary economic conditions.
Answer: B The fraud triangle requires incentives (e.g., debt covenants), opportunities, and managements ability to rationalize (temporary economic conditions). Adding independent members to the Board of Directors should improve corporate governance and hence decrease the opportunity for fraud.
CFA Level 1 Practice Questions for Financial Statement Analysis 72. A company is buying back its stocks to offset the dilution of earnings from its stock option program. Which of the following statements best describes the effect on the financial statements of the amount spent to buy back the stocks? The amount spent reduces: A. net income. B. cash from operating activities. C. cash from financing activities. Answer: C The amount spent to buy back stocks to offset dilution is classified as a financing activity on the cash flow statement and therefore cash from financing decreases. 73. A firm reports sales of 50,000,000 for the year ended December 31, 2009. Its accounts receivable balances were 6,000,000 at January 1, 2009 and 7,500,000 at December 31, 2009. The companys cash collections from sales () for 2009 is closest to: A. 42,500,000. B. 48,500,000. C. 51,500,000. Answer: B The cash collections from sales is equal to sales less the change in receivables: 50,000,000 (7,500,000-6,000,000) = 48,500,000.
CFA Level 1 Practice Questions for Financial Statement Analysis 74. The table below shows changes to the number of common shares outstanding for a company during 2009:
To calculate earnings per share for 2009, the companys weighted average number of shares outstanding is closest to: A. 215,000. B. 420,000. C. 430,000. Answer: C The weighted average number of shares outstanding is time weighted: 5/12 of the year there were 180,000 shares, and 7/12 of the year there were 240,000 (180,000+60,000) on a pre-split basis; the stock split is treated retroactively to the start of the year. [(180,000 x 5/12) + (240,000 x 7/12)] x 2 = 430,000 75. In the statement of cash flows, a company is allowed to classify interest paid: A. in either the operating or financing section under IFRS. B. in either the operating or financing section under U.S. GAAP. C. only in the financing section under both IFRS and U.S. GAAP. Answer: A US GAAP requires that interest paid be classified as an operating cash flow; IFRS allows interest paid to be classified as either an operating or financing activity.
CFA Level 1 Practice Questions for Financial Statement Analysis 76. A company entered into a three-year construction project with a total contract price of $5.3 million and an expected total cost of $4.4 million. The following table provides cash flow information relating to the contract:
If the company uses the percentage-of-completion method, the amount of revenue (in $) recognized in Year 2 will be closest to: A. 2,800,000. B. 3,372,727. C. 3,616,636. Answer: C The revenue reported is equal to the percentage of the contract that is completed in that period, where percentage completion is based on costs. In Year 2, the percent completed is $3,000,000/$4,400,000 = 68.2%, resulting in 68.2% x 5,300,000 = 3,616,636 revenue being recognized. 77. An analysts examination of the performance of a company is least likely to include an assessment of a companys: A. profitability. B. cash flow generating ability. C. assets relative to its liabilities. Answer: C Assessment of performance includes analysis of profitability and cash flow generating ability. The relationship between assets and liabilities is used to assess a companys financial position, not its performance. 78. Which of the following is a constraint as defined in the International Financial Reporting Standards (IFRS) Framework for the Preparation and Presentation of Financial Statements? A. Neutrality B. Timeliness C. Going concern
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: B Timeliness is a constraint in the IFRS Framework. Neutrality is a factor that contributes to reliability and going concern is an assumption of the Framework. 79. A company, with a tax rate of 40%, sold a capital asset with a net book value of $500,000 for $570,000 during the year. Which of the following amounts (in $) will most likely be reported on its income statement for the year related to the asset sale? A. 42,000 B. 70,000 C. 570,000 Answer: B (including discontinued operations, extraordinary items, and unusual or infrequent items), and changes in accounting standards. The disposition of a capital asset is reported as a net gain or loss ($570,000 $500,000 = $70,000) on the income statement before tax affects. 80. Under International Financial Reporting Standards (IFRS) a bank, or other financial institution, would normally use which type of balance sheet format? A. Classified B. Liquidity-based C. Market-value based Answer: B Under IAS No. 1 liquidity-based presentation is recommended when it provides information that is more relevant and reliable than the current/noncurrent format, such as in the case of banks and financial institutions. 81. A company issued shares to acquire a large tract of undeveloped land for future development. The most likely recording of this transaction in the cash flow statement is as a(n): A. disclosure in a note or supplementary schedule. B. outflow from investing activities, and an inflow from financing activities. C. outflow from operating activities, and an inflow from financing activities.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: A Non-cash transactions are not reported in the cash flow statement but if they are significant they are reported in a note or supplementary schedule. 82. The following information is available for a company:
In 2010, the company most likely: A. paid a dividend of $1,000 B. paid a dividend of $5,000 C. did not pay a dividend because they incurred a loss. Answer: B
CFA Level 1 Practice Questions for Financial Statement Analysis 83. A company reported net income of $400,000 for the year. At the end of the year, the company had an unrealized gain of $50,000 on its available-for-sale securities, an unrealized gain of $40,000 on heldto-maturity securities and an unrealized loss of $100,000 on its portfolio of held-for-trading securities. The companys comprehensive income (in $) for the year is closest to: A. 350,000. B. 390,000. C. 450,000. Comprehensive Income = Net Income + Other Comprehensive Income = NI + OCI Other Comprehensive Income will include unrealized gains or losses on available for sale securities. Net Income includes unrealized gains or losses in trading securities, while securities classified as held to maturity are maintained at historical cost and therefore the unrealized gains wont impact comprehensive income. OCI = $50,000; Comprehensive Income = NI + OCI = $400,000 + $50,000=$450,000 84. The table below contains selected data from the common-size balance sheets for three different industries: utilities, financials and consumer discretionary products.
Which of the following statements is most accurate? A. B. Industry 1 is the utility industry and Industry 2 is the financial industry. Industry 2 is the utility industry and Industry 3 is the consumer discretionary products industry.
C. Industry 1 is the consumer discretionary products industry and Industry 3 is the financial industry. Answer: B Evaluate and compare companies using ratio analysis, common-size financial statements, and charts in financial analysis. The utility industry [2] has a large percentage of PPE and long term debt and low inventories; the consumer discretionary products industry [3] would have high inventories.
CFA Level 1 Practice Questions for Financial Statement Analysis 85. Due to global oversupply in the micro-chip industry a company wrote down its 2009 inventory by 4.0 million from 12.0 million. The following year, due to a change in competitive forces in the industry the market price of these chips rose sharply to 10% above their original 2009 value. If the company prepares its financial statements in accordance with International Financial Reporting Standards (IFRS), its 2010 inventory (in -millions) will most likely be reported as: A. 8.0. B. 12.0. C. 13.2. Answer: B Although IFRS does require write-downs, it also allows revaluations, but not to exceed the original value, i.e., 12. The exception to this, where gains are allowed, is in producers of agricultural, forest and resource products. 86. An analyst calculates the following ratios for a firm:
The return on equity (in %) for this firm is closest to: A. 6.4. B. 7.0. C. 17.9. Answer: C ROE = Net Profit Margin x Sales/Total Assets x Total Assets/Equity = 4.0 x 2.8 x 1/0.625 = 17.9%. Alternatively, ROE = Return on Total Assets x Total Assets/Equity = 11.2 x 1/0.625 = 17.9% 87. A capital lease requires annual lease payments of $2,000 at the start of each year. Fair value of the leased equipment at inception of the lease is $10,000 and the implicit interest rate is 12 percent. If the present value of the lease payments equals the fair value of the equipment at the inception of the lease, the interest expense (in $) recorded by the lessee in the second year of the lease is closest to: A. 960. B. 1,104. C. 1,200.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: A Determine the effects of finance and operating leases on the financial statements and ratios of the lessees and lessors.
88. Two software companies that report their financial statements under U.S. GAAP (generally accepted accounting principles) are identical except as to how soon they judge a project to be technologically feasible. One firm does so very early in the development cycle while the other usually waits until just before the project is released to manufacturing. Compared to the company that judges technological feasibility early, the one that waits until closer to manufacturing will most likely report lower: A. financial leverage. B. total asset turnover. C. cash flow from operations. Answer: C U.S. GAAP requires that a company expense costs related to software development until product feasibility is established and capitalize any costs thereafter. The company that capitalizes these software development costs reports the expenditures in the investing activities section of the statement of cash flows; the company that expenses software development costs reports the expenditures in the cash flow from operations. 89. During the past year, a companys production facility was operating at 75% of capacity. The firms costs were as follows:
The firm ended the year with no remaining work-in-process inventory. The total capitalized inventory cost (in $ millions) for the year is closest to: A. 13.25. B. 15.25.
CFA Level 1 Practice Questions for Financial Statement Analysis C. 16.00. Answer: A
90. A company prepares its financial statements in accordance with U.S. GAAP (generally accepted accounting principles). It expected to be the sole supplier for a state-wide school milk program and had production facilities valued at $28.4 million. Recently several other companies were also granted milksupply contracts throughout the state and the company now estimates that it will only be able to generate cash flows of $3 million per year for the next 7 years with its facilities. The firm has a cost of capital of 10%. The impairment loss (in $-millions) on the production facilities will most likely be reported in the companys financial statements as a: A. 13.8 reduction in operating cash flows. . B. 13.8 impairment loss in the income statement C. 7.4 reduction in the balance sheet carrying amount. Answer: B The company will report an impairment loss in the income statement: The facilities fail the recoverability test, the net book value cannot be recovered from undiscounted cash flows: 7 yrs x $3 = $21 < $28.4. Therefore, the asset is impaired. The asset should be written down to its fair value. Fair Value: PV of future benefits: (N=7; i=10; PMT=3): PV = 14.6 Impairment Loss: Carrying Value Fair Value: 28.4 - 14.6 = 13.8 to be reported on the income statement 91. Which of the following events will most likely result in a decrease in a valuation allowance for a deferred tax asset under U.S. GAAP (generally accepted accounting principles)? A(n): A. reduction in tax rates. B. decrease in interest rates. C. increase in the carry forward periods available under the tax law.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: C Under U.S. GAAP, deferred tax assets must be assessed at each balance sheet date. If there is any doubt whether the deferral will be recovered, the carrying amount should be reduced to the expected recoverable amount. The asset is reduced by increasing the valuation allowance. Should circumstances change, so that it is more probable that the deferred tax benefits will be recovered, the deferred asset account will be increased (and the valuation allowance decreased). An increase in the carry forward period for tax losses extends the possibility that benefits will be realized from the deferred tax asset and would likely result in a decrease in the valuation allowance and an increase in the deferred tax asset. 92. A company presents its financial statements according to U.S. GAAP (generally accepted accounting principles) and has just issued $5 million of mandatory redeemable preferred shares with a par value of $100 per share and a 7% dividend. The issue matures in 5 years. Which of the following statements is least likely correct? At the time of the issue, the companys: A. B. C. debt-to-total capital ratio will improve interest coverage ratio will deteriorate. preferred shareholders will rank below debt holders should the company file for bankruptcy.
Answer: A SFAS 150 require that issuers report as liabilities any financial instruments that will require repayment of principal in the future. Mandatory redeemable preferred shares must be reported as debt; dividends on such stock must be reported as interest expense (consistent with the view that the preferred stock is debt) which will lower the interest coverage ratio.. In the Debt/(Debt + Equity) ratio, the Debt will increase making the debt/total capital increase, (the numerator will increase more than the denominator), thus the ratio will increase (deteriorate), not decrease (improve). 93. A pharmaceutical company has been very successful for the past several years, increasing its sales many-fold over that of its competition. It has been able to meet or beat analysts optimistic quarterly earnings estimates and consistently registers very high sales towards the end of each quarter. Most of the companys sales are to two of its major wholesalers. The firm covers the carrying costs for these two wholesalers and guarantees them a return on investment until the wholesalers sell the products. Which of the three risk factors related to fraudulent financial reporting would best explain the behavior of this company? A. Opportunities B. Incentives/Pressures C. Attitudes/Rationalizations
CFA Level 1 Practice Questions for Financial Statement Analysis Answer: B The company is recognizing revenue for sales on shipment while the risks and rewards of ownership have not yet been transferred to the wholesalers. The motivation behind the activity is most likely the pressure to meet the expectations of investment analysts to meet ever increasing sales growth forecasts. 94. Which of the following is most likely a benefit of debt covenants for the borrower? A. Reduction in the cost of borrowing. B. Limitations on the companys ability to pay dividends. C. Restrictions on how the borrowed money may be invested. Answer: A The reduction in the cost of borrowing is a benefit of covenants to the borrower. 95. Under U.S. GAAP what is the most likely effect of the reversal of a valuation allowance related to a deferred tax asset on net income? A. B. C. No effect A decrease An increase
Answer: C The reversal of a valuation allowance increases the deferred tax assets and decreases the deferred tax expense, increasing net income. 96. Which of the following accounting warning signs was evident in the Enron accounting scandal? A. B. C. Recording revenue from contingent sales. Accelerating sales from later periods into the present quarter. Classifying financing cash flows as operating cash flows to increase operating cash flows.
Answer: C Enron classified financing cash flows as operating cash flows.
CFA Level 1 Practice Questions for Financial Statement Analysis 97. At the start of a month, a retailer paid $5,000 in cash for different types of candies. He sold candies costing $2,000 for $3,000 during the month. The most likely effect of these transactions on the retailers accounting equation for the month is that assets will: A. be unchanged. B. increase by $1,000. C. decrease by $2,000. Answer = B Buying $5,000 of candies will decrease cash by $5,000 and increase inventory by $5,000. Selling $2,000 of candies for $3,000 will decrease inventory by $2,000, and increase either cash (if cash collected in the same accounting period) or accounts receivable (if sold on credit) by $3,000. The combined effect is an increase of $1,000 in assets. 98. Which of the following statements best describes a trial balance? A trial balance is a document or computer file that: A. shows all business transactions by account. B. lists account balances at a particular point in time. C. contains business transactions recorded in the order in which they occur. Answer = B A trial balance is a document that lists account balances at a particular point in time. 99. Under IFRS, which of the following financial statement elements most accurately represents inflows of economic resources to a company? A. Assets. B. Equity. C. Revenues. Answer = C The financial statement elements under International Financial Reporting Standards (IFRS) are: Assets, Liabilities, Owners Equity, Revenue, and Expenses. Revenues are inflows of economic resources. Assets are economic resources, but not inflows.
CFA Level 1 Practice Questions for Financial Statement Analysis 100. According to the IFRS framework, which of the following is the least likely qualitative characteristic that makes financial information useful? A. B. C. Materiality. Comparability. Understandability.
Answer = A The four principal qualitative characteristics that make financial information useful are understandability, relevance, reliability and comparability. Materiality relates to the level of detail of the information needed to achieve relevance whether the omission or misstatement of the information would impact the decision maker's decision. 101. Which of the following statements is most accurate? A. Treasury stock is non-voting and receives no dividends.
B. Minority interest on the balance sheet represents a position the company owns in other companies. C. A classified balance sheet arises when in an auditors opinion the financial statements materially depart from accounting standards and are not presented fairly. Answer = A Treasury stock is non-voting and does not receive dividends.
CFA Level 1 Practice Questions for Financial Statement Analysis 102. The following information is available on a company for the current year.
The companys diluted EPS is closest to: A. $7.57. B. $7.69. C. $7.72. Answer = C Since both the preferred shares and bonds are dilutive, they should both be converted to calculate the diluted EPS. Diluted EPS is the lowest value. $7.72 has calculated in the following table.
CFA Level 1 Practice Questions for Financial Statement Analysis 103. During 2010, Company A sold a piece of land with a cost of $6 million to Company B for $10 million. Company B made a $2 million down payment with the remaining balance to be paid over the next 5 years. It has been determined that there is significant doubt about the ability and commitment of the buyer to complete all payments. Company A would most likely report a profit in 2010 of: A. $4 million using the accrual method. B. $0.8 million using the installment method. C. $2 million using the cost recovery method. Answer = B Under the installment method, the portion of the total profit that is recognized in each period is determined by the percentage of the total sales price for which the seller has received cash. For Company A 2/10 x 4 = $0.8 million. Note, cost recovery method could be used in this case, but the reported profit would be $0. 104. A companys balance sheet shows the following:
Current Assets Cash and cash equivalents $ 2,950 Marketable securities 730 Notes and accounts receivable, trade 5,740 Allowance for doubtful accounts (650) Inventories 1,320 Deferred income taxes 1,160 Other current assets 690 Total current assets $ 11,940 Page 50 of 100 Url: www.berkeleyme.com Berkeley Middle East Inc. Email: info@berkeleyme.com Tel: 050-4401915
CFA Level 1 Practice Questions for Financial Statement Analysis Current Liabilities Accounts payable and other accrued liabilities $ 5,100 Current portion of borrowings 1,820 Other current liabilities 2,560 Total current liabilities $ 9,480 The companys quick ratio is closest to: A. 0.4. B. 0.9. C. 1.3. Answer = B
105. The following information is from a companys investment portfolio:
Classification Held-to-maturity Market value, 31 Dec 2009 $ 17,000 Cost/Amortized cost 31 Dec 2009 22,000 Market value, 31 Dec 2010 10,000 Cost/Amortized cost 31 Dec 2010 20,000 If the investment is reclassified as Available-for-sale as of 31 December 2010, the balance sheet carrying value of the companys investment portfolio would most likely: A. remain the same. B. decrease by $10,000. C. decrease by $12,000.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = B Held-for-trading and available-for-sale securities are carried at market value, whereas held-tomaturity securities are carried at amortized cost. If the investment is reclassified as available-for-sale in 2010, the carrying amount should be adjusted to its market value, which is $10,000. Compared with the amortized cost of $20,000, its a decrease of $10,000. 106. A company reports its interest payments on long-term debt as a financing activity under IFRS. If the company reports under U.S. GAAP, the most likely effect would be: A. an increase in cash flow from operations. B. a decrease in cash flow from investing activities. C. an increase in cash flow from financing activities. Answer = C Interest payments can be reported either as operating or financing cash flow under IFRS, but can only be reported as operating cash flow under U.S. GAAP. The interest payment was originally reported as financing activity under IFRS, but under U.S. GAAP, it would be an operating activity. Therefore, cash flow from financing activities would increase, and operating cash flows decrease by the same amount. 107. The following information (in millions) on a company is available:
The amount of cash (in millions) that the company paid to its suppliers is closest to: A. $445. B. $495. C. $505.
Answer = B
108. Which of the following statements is most accurate regarding cash flow ratios? A. Interest coverage ratio is calculated as operating cash flow over interest payments. B. Debt payment ratio measures the firms ability to pay debts with operating cash flows. C. Reinvestment ratio measures the firms ability to acquire assets with investing cash flows. Answer = B Debt payment ratio (CFO Cash paid for long-term debt repayment) shows the firms ability to pay debts with operating cash flows. 109. Which of the following is the least appropriate accounting treatment for marketable securities under IAS No. 39?
Answer = C All categories treat realized gains or losses in the same way - they are reported on the income statement. It is the unrealized gains and losses that are included in other comprehensive income (in equity) for available for sale securities carried at market value.
CFA Level 1 Practice Questions for Financial Statement Analysis 109. A U.S. pulp brokerage firm which prepares its financial statements according to U.S. GAAP and uses a periodic inventory system had the following transactions during the year:
The cost of sales (in 000s) is closest to: A. $3,850 using FIFO. B. $4,080 using LIFO. C. $5,890 using weighted average. Answer = A FIFO cost of sales is $3,850 as per the table.
CFA Level 1 Practice Questions for Financial Statement Analysis 110. A review of a companys inventory records for the year indicates that the following costs were incurred:
If the company operated at full capacity during the year, the total capitalized inventory cost is closest to: A. $800,000. B. $825,000. C. $855,000. Answer = B The total capitalized costs include fixed production costs, the direct conversion costs of material and labor, storage costs required as part of production but not abnormal waste costs. $500,000 + 300,000 + 25,000 = $825,000 111. In a period of rising prices, when compared to a company that uses weighted average cost for inventory, a company using FIFO will most likely report higher values for its: A. return on sales. B. inventory turnover. C. debt-to-equity ratio. Answer = A In periods of rising prices FIFO results in a higher inventory value and a lower cost of goods sold and therefore a higher net income. The higher net income increases return on sales. The higher reported net income also increases retained earnings, and therefore results in a lower debt-to equity ratio not a higher one. The combination of higher inventory and lower cost of goods sold decreases inventory turnover (CGS/inventory).
CFA Level 1 Practice Questions for Financial Statement Analysis 112. A company, which prepares its financial statements in accordance with IFRS is in the process of developing a more efficient production process for one of its primary products. The most appropriate accounting treatment for those costs incurred in the project is to: A. expense them as incurred. B. capitalize costs directly related to the development. C. expense costs until technical feasibility has been established. Answer = C Under IFRS research and development costs are expensed until certain criteria are met, including that technical feasibility has been established and the company intends to use it. 113. A Canadian printing company which prepares its financial statements according to IFRS has experienced a decline in the demand for its products. The following information relates to the companys printing equipment as of 31 December 2010.
The impairment loss (in C$) is closest to: A. 0. B. 60,000. C. 70,000. Answer = B Under IFRS, an asset is considered to be impaired when its carrying amount exceeds its recoverable amount (the higher of fair value less cost to sell or value in use). Fair value less costs to sell: 480,000 50,000 = 430,000 Value in use = 440,000 Recoverable amount (higher value) = 440,000 Impairment loss under IFRS = Carrying value recoverable amount = 500,000 440,000 = 60,000
CFA Level 1 Practice Questions for Financial Statement Analysis 114. A company which prepares its financial statements in accordance with IFRS incurred and capitalized 2 million of development costs during the year. These costs were fully deductible immediately for tax purposes, but the company is depreciating them over two years for financial reporting purposes. The company has a long history of profitability which is expected to continue. Which is the most appropriate way for an analyst to incorporate the differential tax treatment in his analysis? He should include it in: A. liabilities when calculating the companys current ratio. B. equity when calculating the companys return on equity ratio. C. liabilities when calculating the companys debt-to-equity ratio. Answer = C The different treatment for tax purposes and financial reporting purposes is a temporary difference and would create a deferred tax liability. Deferred tax liabilities should be classified as debt if they are expected to reverse with subsequent tax payments. The long history of profitability implies the company will likely be paying taxes in the following years and hence an analyst could reasonably expect the temporary difference to reverse. Under IFRS all deferred tax liabilities are non-current and therefore do not affect the current ratio. 115. A company issued $2,000,000 of bonds with a 20 year maturity at 96. Seven years later, the company called the bonds at 103 when the unamortized discount was $39,000. The company would most likely report a loss of: A. $60,000. B. $99,000. C. $138,000. Answer = B
CFA Level 1 Practice Questions for Financial Statement Analysis 116. A company has recently revalued one of its depreciable properties and estimated that its remaining useful life would be another 20 years. The applicable tax rate for all years is 30% and the revaluation of the property is not recognized for tax purposes. Details related to this asset are provided in the table below, with all -values in millions.
The deferred tax liability (in millions) as at the end of 2010 is closest to: A. 690. B. 960. C. 1,650. Answer = A Calculate income tax expense, income tax payable, deferred tax assets, and deferred tax liabilities, and calculate and interpret the adjustment to the financial statements related to a change in the income tax rate. Compare and contrast a companys deferred tax items.
CFA Level 1 Practice Questions for Financial Statement Analysis 117. Which of the following is least likely to be a warning sign of low quality earnings? A. Greater use of operating leases than peer companies. B. Use of a higher discount rate in pension plan assumptions. C. A ratio of operating cash flow to net income greater than 1.0. Answer = C A ratio of operating cash flow to net income below 1.0 (not above 1.0) can be a warning sign of low quality earnings. 118. If a nonfinancial company securitizes its accounts receivables for less than their book value, the most likely effect on the financial statements is to increase: A. net income. B. cash from operations. C. cash from financing activities. Answer = B The securitization of accounts receivables for less than book value would result in a loss on the income statement, but an increase in the cash from operations, reflecting the proceeds received. 119. An analyst uses a stock screener and selects the following metrics: a global equity index, P/E ratio lower than the median P/E ratio, and a price-book value ratio lower than the median price-book value ratio. The stocks so selected would be most appropriate for portfolios of which type of investors? A. Value investors. B. Growth investors. C. Market-oriented investors. Answer = A Metrics such as low P/E and low price-book are aimed at selecting value companies; therefore the portfolio is most appropriate for value investors.
CFA Level 1 Practice Questions for Financial Statement Analysis 120. Common-size financial statements are most likely an output of which step in the financial analysis framework? A. Collect data B. Process data C. Analyze/interpret data Answer = B Preparing common-size financial statements is part of the Process data step. 121. Which of the following statements is most accurate? A. Accrued revenue arises when a company receives cash prior to earning the revenue. B. A valuation adjustment for an asset converts its historical cost to its depreciated value. C. Accrued expenses arise when a company incurs expenses that have not yet been paid as of the end of the accounting period. Answer = C The statement about accrued expenses is correct; a valuation adjustment for an asset converts its historical cost to current market value; accrued revenue arises when revenue has been earned but not yet received. 122. Under IFRS, which of the following is most likely one of the fundamental principles underlying the preparation of financial statements? A. Reliability B. Consistency C. Understandability Answer = B Based on International Accounting Standard (IAS) general requirements for financial statements, fundamental principles include fair presentation, going concern, accrual basis, consistency and materiality.
CFA Level 1 Practice Questions for Financial Statement Analysis 123. To be recognized as a financial statement element under the IFRS Framework for the Preparation and Presentation of Financial Statements an element most appropriately needs to: A. have a cost or value that can be measured with reliability. B. normally be carried at historical cost, current cost or fair market value. C. provide certainty that any future economic benefit associated with the item will flow to or from the enterprise. Answer = A For recognition in the financial statements, an element must have a cost or value that can be measured with reliability; certainty is not a requirement for economic benefits associated with an item to flow to or from the enterprise: all that is required is that it is probable that they will. 124. A company uses the percentage-of-completion method to recognize revenue from its long term construction contracts and estimates percent completion based on expenditures incurred as a percentage of total estimated expenditures. A three-year contract for 10 million was undertaken with a 30% gross profit anticipated. The project is now at the end of its second year, and the following endof-year information is available:
The gross profit recognized in year 2 is closest to: A. 617,500. B. 880,000. C. 960,000. Answer = A
CFA Level 1 Practice Questions for Financial Statement Analysis 125. The following financial information is available at the end of the year.
The diluted EPS is closest to: A. $2.91. B. $2.93. C. $3.08. Answer = A
126. At the start of the year, a company acquired new equipment at a cost of 50,000, estimated to have a 3 year life and a residual value of 5,000. If the company depreciates the asset using the double declining balance method, the depreciation expense that the company will report for the third year is closest to: A. 555.
CFA Level 1 Practice Questions for Financial Statement Analysis B. 3,328. C. 3,705. Answer = A
127. Assume a company has the following portfolio of marketable securities which was acquired at the end of 2009:
If the company reports under IFRS instead of U.S. GAAP, its net income will most likely be: A. the same. B. 500,000 lower. C. 500,000 higher. Answer = A Whether securities are classified as held for trading or available for sale, they are measured at their fair value on the balance sheet, but all gains/losses on held for trading securities are reported on the income statements. The unrealized gains/losses on available for sale securities are reported in equity. However, this treatment is the same for both IFRS and U.S. GAAP reporting.
CFA Level 1 Practice Questions for Financial Statement Analysis 128. The use of financial ratio analysis is most likely limited in which of the following situations? When: A. providing a means of evaluating managements ability. B. comparing companies using different accounting methods. C. providing insights into microeconomic relationships within a company that help analysts project earnings and free cash flow. Answer = B Financial ratio analysis is limited by the use of alternative accounting methods. Accounting methods play an important role in the interpretation of financial ratios. The lack of consistency across companies makes comparability difficult to analyze and limits the usefulness of ratio analysis. 129. Which of the following statements is most accurate regarding cash flow statements prepared under IFRS and U.S. GAAP? A. Under U.S. GAAP, bank overdrafts should be classified as a financing cash flow. B. Under IFRS, interest paid can be reported either as an operating or an investing cash flow. C. Both the direct and indirect formats of cash flow statements are allowed under IFRS and U.S. GAAP, but indirect is encouraged under IFRS only. Answer = A Under U.S. GAAP, bank overdrafts are not considered part of cash and cash equivalents and are classified as financing cash flows. 130. The following is selected data from a companys operations:
The cash flow from operations is closest to: A. $89,000. B. $105,000. C. $111,000.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = B
131. An equity analyst is forecasting the next years net profit margin of a heavy equipment manufacturing firm, by using the average net profit margin over the past three years. In making his profit projection, he is concerned about the following three items:
Which of the following statements about the preparation of the forecast is most accurate? The analyst would: A. B. use the most recent tax rate because that is the best predictor of future tax rates. exclude the gains on the sale from investments because the company is a manufacturing firm.
C. include the discontinued operations because they appear to be an on-going feature for this company. Answer = B The company is a heavy equipment manufacturer -since gains on investments is not a core part of its business, they should not be viewed as an ongoing source of earnings. Discontinued operations are considered to be nonrecurring items (even though they have occurred in the past three years); they are normally treated as random and unsustainable and should not be included in a short-term forecast; the change in the current tax rate is best viewed as temporary (in the absence) of additional information and should not be the basis of the calculation of the average tax rate.
CFA Level 1 Practice Questions for Financial Statement Analysis 132. An analyst gathered the following data for two companies in the same industry:
Company A Company B Days in sales outstanding 28 32 Days of inventory on hand 32 35 Days of payables 42 40 Current assets $203,000 $189,000 Total assets 581,000 469,000 Current liabilities 73,000 71,000 Total liabilities 429,000 350,000 Shareholders' equity 152,000 119,000 Which of the following is the most appropriate conclusion the analyst can make? Compared to Company B, Company A: A. is more liquid. B. has more financial risk. C. has a longer time between cash outlay and cash collection. Answer = A Company A has a higher current ratio and shorter cash conversion cycle and it therefore more liquid. The lower financial leverage ratio indicates that it has less financial risk, not more, and it has less time between cash outlay and cash collection. Measure Definition Company A Company B Current ratio CA/CL 2.78 2.66 Cash conversion DOS + DOH Days payable 28 + 32 42 32 + 35 40 cycle = 18 = 27 Financial Leverage Total assets/Sh equity 3.82 3.94
CFA Level 1 Practice Questions for Financial Statement Analysis 133. A company incurs the followings costs related to its inventory during the year:
The amount charged to inventory cost (in millions) is closest to: A. 175,000. B. 177,000. C. 185,000. Answer = A The costs to include in inventories are all costs of purchase, costs of conversion, and other costs incurred in bringing the inventories to their present location and condition.
135. Compared with using the FIFO method to account for inventory, during a period of rising prices, which of the following ratios is most likely higher for a company using LIFO? A. Current ratio B. Gross margin C. Inventory turnover Answer = C During a period of rising prices, ending inventory under LIFO will be lower than that of FIFO and cost of goods sold higher; therefore, inventory turnover (CGS/average inventory) will be higher.
CFA Level 1 Practice Questions for Financial Statement Analysis 136. A company which prepares its financial statements using IFRS wrote down its inventory value by 20,000 in 2009. In 2010, prices increased and the same inventory was worth 30,000 more than its value at the end of 2009. Which of the following statements is most accurate? In 2010, the companys cost of sales: A. was unaffected. B. decreased by 20,000. C. decreased by 30,000. Answer = B Under IFRS, the recovery of previous write-down is limited to the amount of the original write-down (20,000) and is reported as a decrease in the cost of sales. 137. A Mexican corporation is computing the depreciation expense of a piece of manufacturing equipment for the fiscal year ended December 31, 2010 using the information below. The company takes a full years depreciation in the year of acquisition.
The depreciation expense (in MXN) will most likely be: A. 180,000 lower using the straight-line method compared with the double-declining balance method. B. 140,000 higher using the units-of-production method compared with the straight-line method. C. 112,000 higher using the double-declining method compared with the units-of-production method. Answer = C The difference between the double declining balance and units-of-production is: 400,000 288,000 = 112,000.
138. A company, which prepares its financial statements in accordance with IFRS uses the revaluation model to value land. At the end of the current year the land value of the land has increased and will be adjusted on the balance sheet. Which of the following statements is most accurate? In the current period the revaluation of the land will: A. increase return on sales. B. increase return on assets. C. decrease the debt to equity ratio. Answer = C The increase in the value of the land bypasses the income statement and goes directly to a revaluation surplus account in equity. Equity increases thereby decreasing the debt to equity ratio 139. At the beginning of the year a company purchased a fixed asset for $500,000 with no expected residual value. The company depreciates similar assets on a straight-line basis over 10 years, while the tax authorities allow declining balance depreciation at the rate of 15% per year. In both cases the company takes a full years depreciation in the first year and the tax rate is 40%. Which of the following statements concerning this asset at the end of the year is most accurate? A. The tax base is $500,000. B. The deferred tax asset is $10,000. C. The temporary difference is $25,000. Answer = C The temporary difference is the difference between the net book value of the asset for accounting purposes [500,000 (500,000/10)] = $450,000 and the net book value for taxes, [500,000 0.15(500,000) = $425,000]. 450,000 425,000 = $25,000. 140. A company, which prepares its financial statements in accordance with IFRS issues 5,000,000 face value ten year bonds on January 1, 2010 when interest rates are 5.50%. The bonds carry a coupon of 6.50%, with interest paid annually on December 31. The carrying value of the bonds as of December 31, 2011 will be closest to: A. 4,695,562. B. 5,301,000. C. 5,316,000.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C
141. Compared to classifying a lease as a financing lease, if a lessee reports the lease as an operating lease it will most likely result in a: A. lower return on assets. B. higher debt-to-equity ratio. C. lower cash from operations. Answer = C The cash from operations is lower if the lease is classified as an operating lease, because the full lease payment is shown as an operating cash outflow. If it were classified as a financing lease, only the portion of the lease payment relating to interest expense reduces the operating cash flow and the portion of the lease payment that reduces the lease liability is classified as a financing cash flow. Therefore, the lessees cash from operations tends to be lower under operating leases. 142. A company reports that to maintain good relations with its suppliers, it has entered into a financing arrangement with a bank whereby it will periodically have the bank pay its suppliers the amounts owed and it will then repay the bank in the following period. The motivation for the companys behavior is most likely to: A. improve its current ratio. B. improve its relations with its suppliers. C. manage the timing of operating cash flows. Answer = C The company can choose when to enter into the short-term borrowing with the bank and reclassify its accounts payable into short-term financing. It will likely do so when cash flows are seasonally strong, thereby reducing operating cash flows but increasing financing cash flows. On repayment, the cash outflow is treated as a financing activity (loan repayment) not an operating cash flow. The result is that Page 70 of 100 Url: www.berkeleyme.com Berkeley Middle East Inc. Email: info@berkeleyme.com Tel: 050-4401915
CFA Level 1 Practice Questions for Financial Statement Analysis the company can manipulate the timing of reported cash flows since the timing and extent of vendor financing is at managements discretion. 143. An equity manager conducted a stock screen on 5,000 U.S. stocks that comprise her investment universe. The results of the screen are presented in the table below.
If all the criteria were completely independent of each other, the number of stocks meeting all four criteria would be closest to: A. 293. B. 371. C. 540. Answer = B
144. When analyzing a company that prepares its financial statements according to U.S. GAAP, calculating the price/tangible book value ratio instead of the price/book value ratio is most appropriate if it: A. grows primarily through acquisitions. B. develops its patents and processes internally. C. invests a substantial amount in new capital assets. Answer = A A company that grows primarily through acquisition will have more goodwill and other intangible assets on its balance sheet than a company with fewer acquisitions or that has grown internally. To provide for comparisons with companies that do not follow such a growth strategy, an analyst would remove all intangibles and focus on tangible book value.
CFA Level 1 Practice Questions for Financial Statement Analysis 145. Which of the following is least likely to appear in a companys proxy statement? A. Compensation arrangements for management and directors B. Significant events and contingencies that may affect future operations C. Potential conflicts of interest between management, directors, and shareholders Answer = B B is correct. Significant events, conditions, trends, and contingencies that may affect future operations are contained in the Managements Discussion and Analysis. Compensation agreements for directors and management and their potential conflicts of interest are required in the proxy statement. 146. At the start of the year, a companys capital contributed by owners and retained earnings accounts had balances of $10,000 and $6,000, respectively. During the year, the following events took place:
The end of year owners equity is closest to: A. $19,400. B. $19,900. C. $20,400. Answer = C C is correct.
CFA Level 1 Practice Questions for Financial Statement Analysis 147. A retailer provides credit cards only to its most valued customers who pass a rigorous credit check. A credit card customer ordered an item from the retailer in May. The item was shipped and delivered in July. The item appeared on the customers July credit card statement and was paid in full by the due date in August. The most appropriate month in which the retailer should recognize the revenue is: A. May. B. July. C. August. Answer = B B is correct. The appropriate time to recognize revenue would be in the month of July; the risks and rewards have been transferred to the buyer (shipped and delivered), the revenue can be reliably measured, and it is probable that the economic benefits will flow to the seller (the rigorous credit check was completed). Neither the actual payment date nor the credit card statement date is relevant here.
CFA Level 1 Practice Questions for Financial Statement Analysis 148. Selected information from a companys recent income statement and balance sheets is presented below.
The company operates in an industry in which suppliers offer terms of 2/10, net 30. The payables turnover for the average company in the industry is 8.5 times. Which of the following statements is most accurate? In 2011, the company on average: A. took advantage of early payment discounts. B. paid its accounts within the payment terms provided. C. paid its accounts more promptly than the average firm in the industry.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C C is correct.
The firms days in payables is 39.9 days; therefore, it appears the firm does not normally take supplierprovided discounts (paying in 10 days) nor pay its accounts within the 30-day terms provided. However, on average, the firm is paying faster than the average firm in the industry (42.9 days). 149. Which of the following will most likely result in an increase in a companys sustainable growth rate? A. Higher tax burden ratio B. Lower interest burden ratio C. Higher dividend payout ratio Answer = A A is correct. Sustainable growth rate = Retention ratio ROE. The higher a companys ROE and its ability to finance itself from internally generated funds (a higher retention ratio), the greater its sustainable growth rate. In the five-factor ROE, any factor that increases ROE will increase sustainable growth: ROE = Tax burden Interest burden EBIT margin Asset turnover Leverage. A higher tax burden ratio (Net income/Earnings before tax) implies that the company can keep a higher percentage of pretax profits; this implies a lower tax rate and a higher ROE. The interest burden ratio is earnings before tax to EBIT, and a lower ratio means that the company has higher borrowing costs (it gets to keep a lower pre-tax income from a given EBIT), implying a lower ROE and sustainable growth.
CFA Level 1 Practice Questions for Financial Statement Analysis 150. During 2010, the following events occurred at a company. The company:
Based on those events, the amortization expense that the company should report in 2011 is closest to: A. $25,000. B. $45,000. C. $85,000. Answer = A A is correct. The customer list is the only identifiable intangible asset, and it should be amortized on a straight-line basis over its expected future life: $100,000 4 = $25,000/year. Goodwill is an unidentifiable intangible and should be tested for impairment but not amortized. All advertising and promotion costs, such as the media placements, are typically expensed. If the reputation of the company has been enhanced as the CEO suggests, this is an internally generated intangible that is not recorded on the balance sheet and is therefore not amortized. 151. The following items are from a companys cash flow statement.
Which of the following standards and formats did the company most likely use in the preparation of its financial statements? A. IFRS, direct format B. IFRS, indirect format C. Either IFRS or U.S. GAAP, direct format
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = A A is correct. The direct method of cash flow statement presentation shows the specific cash inflows and outflows that result in reported cash flow from operating activities (cash from customers, cash to suppliers, etc.). Companies using IFRS can decide to report interest and dividend receipts as either an investing or operating activity, whereas under U.S. GAAP, they must report such income as an operating activity. The listed operating and investment activities indicate that the company reports under IFRS, using the direct method. 152. The following information is available about a manufacturing company:
If the company is using International Financial Reporting Standards (IFRS), instead of U.S. GAAP, its cost of goods sold ($ millions) is most likely: A. the same. B. 0.3 lower. C. 0.3 higher. Answer = A A is correct. Under IFRS, the inventory would be written down to its net realizable value ($4.1 million), whereas under U.S. GAAP, market is defined as current replacement cost and hence would be written down to its current replacement cost ($3.8 million). The smaller write down under IFRS will reduce the amount charged to the cost of goods sold, as compared with U.S. GAAP, and result in a lower cost of goods sold of $0.3 million. 153. For which of the following assets is it most appropriate to test for impairment at least annually? A. Land B. A patent with a legal life of 20 years C. A trademark with an expected indefinite life
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C C is correct. Intangible assets with indefinite lives need to be tested for impairment at least annually. PP&E (including land) and intangibles with finite lives are only tested if there has been a significant change or other indication of impairment. 154. On 1 January 2011 the market rate of interest on a companys bonds is 5% and it issues a bond with the following characteristics:
If the company uses IFRS, its interest expense (in millions) in 2011 is closest to: A. 1.846. B. 2.307. C. 2.386. Answer = B B is correct. IFRS requires the effective interest method for the amortization of bond discounts/premiums. The bond is issued for 0.9228 50 million = 46.140. Interest expense = Liability value Market rate at issuance: 0.05 46.140 = 2.307. 155. Given the following information about a company:
What is the most appropriate conclusion an analyst can make about the solvency of the company? Solvency has: A. improved because the debt-to-equity ratio decreased. B. deteriorated because the debt-to-equity ratio increased. C. improved because the fixed charge coverage ratio increased.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = A A is correct. The debtequity ratio decreased, thereby improving solvency; the fixed charge ratio remained the same.
156. Which of the following will most likely increase a companys operating cash flow? An increase in: A. days sales payable (DSP). B. gains on the sale of long-term assets. C. use of operating leases versus financing leases. Answer = A A is correct. An increase in the days sales payable would indicate the company is stretching out its payables, which would increase the cash from operations. 157. The least likely reason that a security analyst needs to understand the accounting process is to:
A. prevent earnings manipulation by management. B. make adjustments to reflect items not reported in the financial statements. C. aid in the assessment of managements judgment in accruals and valuations. Answer = A A is correct. Understanding the accounting process may assist an analyst in identifying earnings manipulation, but it will not prevent the manipulation of earnings by management. It is important for analysts to understand the accounting process so they can make adjustments for items not reported and to aid in the assessment of managements judgment of accruals and valuations.
CFA Level 1 Practice Questions for Financial Statement Analysis 158. What is the most likely effect on the accounting equation when a company purchases office equipment with cash? A. Assets increase, and liabilities increase. B. There is no effect on the accounting equation. C. Assets decrease, and owners equity decreases. Answer = B B is correct. There would be no effect on the accounting equation because the company has exchanged one asset for another. Cash has decreased, and office equipment, a capital asset, has increased. 159. Which of the following statements best describes the role of the International Organization of Securities Commissions (IOSCO)? The IOSCO: A. B. C. laws. is responsible for regulating financial markets of member nations. is the oversight body to which the International Accounting Standards Board (IASB) reports. assists in attaining the goal of cross-border cooperation in combating violations of securities
Answer = C C is correct. The IOSCO is not a regulator of financial markets. To ensure consistent application of international financial standards, it is important to have uniform regulation and enforcement across national boundaries. IOSCO assists in attaining this goal of uniform regulation as well as cross-border cooperation in combating violations of securities and derivatives laws.
CFA Level 1 Practice Questions for Financial Statement Analysis 160. The following data are available for a company and its industry:
Which of the following statements about the company is most appropriate? The company: A. operates in the manufacturing industry. B. has made significant acquisitions in the past. C. has higher financial leverage than the industry. Answer = B B is correct. Goodwill makes up 40% of total assets; therefore, the company has made significant acquisitions at some point because goodwill is only recognized during acquisitions. Leverage is below the industry average for both the debt-to-equity ratio of 40% [(20.1 + 1.6) 54] versus the industry average of 50% and long-term debt-to-equity ratio of 37% [20.1 54] versus the industry average of 40%. The low PP&E and inventory levels also indicate the company is not likely a manufacturer.
CFA Level 1 Practice Questions for Financial Statement Analysis 161. Which of the following is least likely a benefit of the direct method for reporting cash flow from operating activities? Compared with the indirect method, the direct method provides: A. supplementary data under U.S. GAAP. B. details on the specific sources of operating receipts and payments. C. insight on differences between net income and operating cash flows. Answer = C C is correct. Providing insight on the differences between net income and cash flow is a benefit of the indirect method. The indirect method starts with net income and integrates a series of adjustments to calculate cash flow from operations. 162. A firm reported the following financial statement items:
Answer = B B is correct.
163. An analyst gathers the following information about a companys common stock: 1 January 2011 200,000 shares outstanding 1 June 2011 50,000 shares issued 1 August 2011 2 for 1 stock split 31 December 2011 500,000 shares outstanding
To calculate earnings per share for 2011, the companys weighted average number of shares outstanding is closest to: A. 333,333. B. 350,000. C. 458,333. Answer = C C is correct. The weighted average number of shares is determined by the length of time each quantity of shares was outstanding. A stock split is treated as if it occurred at the beginning of the year. 200,000 5/12 83,333 250,000 7/12 145,833 Total before split 229,166 Including effect of 2:1 split 458,333
CFA Level 1 Practice Questions for Financial Statement Analysis 164. To gain insight into what portion of the companys assets is liquid, an analyst will most likely use: A. the cash ratio. B. the current ratio. C. common-size balance sheets. Answer = C C is correct. A common-size balance sheet expresses all balance sheet accounts as a percentage of total assets and provides insight into what portion of a companys assets is liquid. In contrast, cash and current ratios measure liquidity relative to current liabilities, not relative to total assets. 165. A companys information from its first year of operation is as follows:
Using a periodic inventory system and the weighted average method, the ending inventory value is closest to: A. $11,975. B. $12,165. C. $12,700. Answer = A
CFA Level 1 Practice Questions for Financial Statement Analysis 166. A company purchased equipment for $50,000 on 1 January 2009. It is depreciating the equipment over a period of 10 years on a straight-line basis for accounting purposes, but for tax purposes, it is using the declining balance method at a rate of 20%. Given a tax rate of 30%, the deferred tax liability as at the end of 2011 is closest to: A. $420. B. $2,820. C. $6,720. Answer = B B is correct. The deferred tax liability is equal to the tax rate times the difference between the carrying amount of the asset and the tax base. Value for accounting purposes after 3 years: 50,000 [3 x (50,000 10)]= $35,000 Value for tax purposes: Carrying amount = Start of year balance (1 0.20) After three years: 50,000 0.8 0.8 0.8 = 25,600 Difference between accounting and tax values 9,400 Deferred tax liability @ 30%: 30% 9,400 = 2,820 167. An analyst is analyzing two companies in the same industry and believes that they have similar strategies regarding the use of property, plant, and equipment (PP&E). He also thinks that the PP&E assets of the two companies are roughly of the same age and have the same expected useful lives remaining. Company A uses the LIFO method of inventory valuation, and Company B uses the FIFO method. The following additional information is available from the companies financial statements:
In the analysts opinion, which of the following conclusions is most appropriate? Compared with Company A, Company B: A. is more liquid. B. has a higher quality of earnings. C. uses more aggressive accounting estimates related to PP&E.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C C is correct.
The analyst believes the two companies PP&E are of the same age; however, the useful life remaining for Company Bs assets is 15 years compared with 10 for Company A, implying B is using a longer useful life or more aggressive accounting policies. The more aggressive PP&E estimates combined with the use of FIFO indicate that Company B has a lower quality of earnings, not higher. The adjusted current ratio for Company A (adjusted to include the LIFO reserve to convert the balance sheet to FIFO for comparison) is higher than the current ratio for B, indicating that A is more liquid. 168. An analyst has made three observations in his worksheets about a company that he is reviewing. Which of the observations most likely reduces the quality of earnings of the company? The company: A. reported for the first time an asset titled Deferred customer acquisition costs.
B. has reduced its estimate of the expected useful life of computer equipment from 8 years to 5 years. C. entered into long-term leases for its manufacturing equipment instead of purchasing it and recorded the leases as capital leases. Answer = A A is correct. An asset such as deferred acquisition costs could indicate the company is deferring current period expenses to future periods, which is a warning sign and an indication of lower quality earnings.
CFA Level 1 Practice Questions for Financial Statement Analysis 169. Which of the following statements is most accurate about the responsibilities of an auditor for a publicly traded firm in the United States? The auditor: A. B. assures the reader that the financial statements are free from error, fraud, or illegal acts. must express an opinion about the effectiveness of the companys internal control systems.
C. must state that he prepared the financial statements according to generally accepted accounting principles. Answer = B B is correct. For a publicly traded firm in the United States, the auditor must express an opinion as to whether the companys internal control system is in accordance with the Public Company Accounting Oversight Board, under the SarbanesOxley Act. This is done either as a final paragraph in the auditors report or as a separate opinion. 170. In accrual accounting, if an adjusting entry results in the reduction of an asset and the recording of an expense, the originating entry recorded was most likely a(n): A. prepaid expense. B. accrued expense. C. deferred revenue. Answer = A A is correct. The adjusting entry to record the expiry of a prepaid expense is the reduction of an asset (the prepaid) and the recognition of the expense.
CFA Level 1 Practice Questions for Financial Statement Analysis 171. At the beginning of the year, a company had total shareholders equity consisting of 200,000 in common share capital and 50,000 in retained earnings. During the year, the following events occurred:
The total shareholders equity at the end of the year is closest to: A. 276,000. B. 279,000. C. 282,000. Answer = A
CFA Level 1 Practice Questions for Financial Statement Analysis 172. Selected information from a companys comparative income statements and balance sheets is presented below.
The cash collected from customers in 2011 is closest to: A. $88,500. B. $96,100. C. $111,500. Answer = A A is correct. Cash collected from customers = Revenues Increase in accounts receivable = $100 (25 13.5) = 88.5.
CFA Level 1 Practice Questions for Financial Statement Analysis 173. Selected information for a company and the common size data for its industry are provided below.
Which of the following is most likely a contributor to the companys inferior ROE compared to that of the industry? The companys: A. tax burden ratio. B. interest burden ratio. C. financial leverage ratio. Answer = C C is correct.
174. Which of the following is least likely to be a general feature underlying the preparation of financial statements within the IFRS Conceptual Framework? A. Matching B. Materiality C. Accrual basis
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = A A is correct. The IFRS Conceptual Framework specifies a number of general features underlying the preparation of financial statements, including materiality and accrual basis. Matching is not one of those general features; it is a general principle of expense recognition. 175. A company suffered a substantial loss when its production facility was destroyed in an earthquake against which it was not insured. Geological scientists were surprised by the earthquake as there was no evidence that one had ever occurred in that area in the past. Which of the following statements is most accurate? The company should report the loss on its income statement: A. net of taxes if it reports under U.S. GAAP. B. as an extraordinary item if it reports under IFRS. C. as an unusual item if it reports under U.S. GAAP. Answer = A A is correct. To qualify as an extraordinary item, an item must be both unusual in nature and infrequent in occurrence: The description of the earthquake meets these criteria. Extraordinary items are only allowed under U.S. GAAP and are reported on the income statement net of tax. 176. The following information is available about a company:
The companys 2011 income tax expense (in thousands) is closest to: A. $1,000. B. $1,050. C. $1,250. Answer = B B is correct. Income tax expense reported on the income statement = Income tax payable + Net changes in the deferred tax assets and deferred tax liabilities. The change in the net deferred tax liability is a $50 increase (indicating that the income tax expense is $50 in excess of the income tax payable [or current
CFA Level 1 Practice Questions for Financial Statement Analysis income tax expense] and representing an increase in the expense). Therefore, the income tax expense = 1,000 + 50 = 1,050. 177. Which of the following inventory valuation methods best matches the actual historical cost of the inventory items to their physical flow? A. FIFO B. LIFO C. Specific identification Answer = C C is correct. Specific identification best matches the physical flow of the inventory items because it tracks the actual units that are sold. 178.A company has announced that it is going to distribute a group of long-lived assets to its owners in a spin-off. The most appropriate way to account for the assets until the distribution occurs is to classify them as: A. held for sale with no depreciation taken. B. held for use until disposal with no deprecation taken. C. held for use until disposal with depreciation continuing to be taken. Answer = C C is correct. Long-lived assets that will be disposed of other than by sale, such as a spin-off, an exchange for other assets, or abandonment, are classified as held for use until disposal and continue to be depreciated until that time.
CFA Level 1 Practice Questions for Financial Statement Analysis 179. The following information is available from a companys 2011 financial statements:
The pension expense (in thousands) reported in 2011 is closest to: A. $1,525. B. $2,217. C. $2,253. Answer = C C is correct. The pension expense would be the sum of the expense for the defined contribution plan and the defined benefit plan (retirement benefit obligation): 1,525 + 728 = 2,253. 180. An analyst is assessing a companys quality of earnings by looking at the cash flow earnings index (operating cash flow divided by net income). Potential problems would most likely be indicated if the ratio were consistently: A. equal to 1.0. B. less than 1.0. C. greater than 1.0. Answer = B B is correct. A cash flow earnings index consistently below 1.0 could indicate potential problems in a companys quality of earnings.
CFA Level 1 Practice Questions for Financial Statement Analysis 181. A retail company that leases the majority of its space has: total assets of $4,500 million, total long-term debt of $2,125 million, and average interest rate on debt of 12%.
After adjustment for the off-balance-sheet financing, the debt-to-total-assets ratio for the company is closest to: A. 55%. B. 57%. C. 65%. Answer = A A is correct. The present value of the operating leases should be added to both the total debt and the total assets. The present value of an annuity due of $200 for 5 years at 12% = $807.5. (N = 5; I =12; PMT=200; Mode=Begin) Adjusted debt to total assets = (2,125 + 807.5) (4,500 + 807.5) = 55.3%. 183. The financial statement that would be most helpful to an analyst in understanding the changes that have occurred in a companys retained earnings over a year is the statement of: A. changes in equity. B. financial position. C. comprehensive income. Answer = A A is correct. The statement of changes in equity reports the changes in the components of shareholders equity over the year, which would include the retained earnings account.
CFA Level 1 Practice Questions for Financial Statement Analysis 184. Under the IASB Conceptual Framework, one of the qualitative characteristics of useful financial information is that different knowledgeable users would agree that the information is a faithful representation of the economic events that it is intended to represent. This characteristic is best described as: A. verifiability. B. comparability. C. understandability. Answer = A A is correct. Under the International Accounting Standards Boards Conceptual Framework, verifiability is the qualitative characteristic that means that different knowledgeable and independent users would agree that the information presented faithfully represents the economic events that it is intended to represent. 185. Under U.S. GAAP, interest paid is most likely included in which of the following cash flow activities? A. Operating only B. Financing only C. Either operating or financing Answer = A A is correct. Interest paid must be categorized as an operating cash flow activity under U.S. GAAP, although it can be categorized as either an operating or financing cash flow activity under IFRS.
CFA Level 1 Practice Questions for Financial Statement Analysis 186. The following information is available:
The companys cash conversion cycle (in days) is closest to: A. 38.2. B. 45.2. C. 76.4. Answer = A
CFA Level 1 Practice Questions for Financial Statement Analysis 187. An analyst has calculated the following ratios for a company:
The companys return on equity (ROE) is closest to: A. 4.8%. B. 15.2%. C. 22.7%. Answer = B B is correct. Using DuPont analysis, there are two ways to calculate ROE from the information provided: ROE = Net profit margin Asset turnover Financial leverage 11.7 0.89 1.46 15.2 ROE = ROA Financial leverage 10.4 1.46 15.2 188. According to International Financial Reporting Standards, which of the following conditions should be satisfied in order to report revenue on the income statement? A. Payment has been received. B. Costs can be reliably measured. C. Goods have been delivered to the customer. Answer = B B is correct. The IFRS conditions that should be met include that the costs incurred can be reliably measured, and it is likely that the economic benefits will flow to the entity, not the actual receipt of any payment, and that the significant risks and rewards of ownership have been transferred, which is normally when the goods have been delivered, but not always.
CFA Level 1 Practice Questions for Financial Statement Analysis 189. A company entered into a three-year construction project with a total contract price of $10.6 million and an expected total cost of $8.8 million. The following table provides cash flow information relating to the contract:
If the company uses the percentage-of-completion method, the amount of revenue recognized (in millions) in Year 2 is closest to: A. $3.5. B. $5.6. C. $7.2. Answer = C C is correct. The revenue reported is equal to the percentage of the contract that is completed in that period, where percentage completion is based on costs. In Year 2: (6.0 8.8) 10.6 = 7.2. 190. A company recently purchased a warehouse property and related equipment (shelving, forklifts, etc.) for 50 million, which were valued by an appraiser as follows: Land 10 million, building 35 million, and equipment 5 million. The company incurred the following additional costs in getting the warehouse ready to use: 2.0 million for repairs to the buildings roof and windows
0.5 million to modify the interior layout to meet their needs (moving walls and doors, inserting and removing partitions, etc.) 0.1 million on an orientation and training session for employees to familiarize them with the facility
The cost to be capitalized to the building account (in millions) for accounting purposes is closest to: A. B. C. 37.0. 37.5. 38.5.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = B B is correct. The capitalized cost of the building would include the other costs that are directly attributable to the building and are involved in extending its life or getting it ready to use:
191. On 1 January 2009, a company that prepares its financial statements according to IFRS issued bonds with the following features: Face value 20,000,000 Term 5 years
Coupon rate 6% paid annually on December 31 Market rate at issue 4%
The company did not elect to carry the bonds at fair value. In December 2011 the market rate on similar bonds had increased to 5% and the company decided to buy back (retire) the bonds after the coupon payment on December 31. As a result, the gain on retirement reported on the 2011 statement of income is closest to: A. 340,410. B. 371,882. C. 382,556.
CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C
192. Which of the following is most likely a reason that a lessor can offer attractive lease terms and lower cost financing to a lessee? Because the: A. lessor retains the tax benefits of ownership. B. lessor avoids reporting the liability on its balance sheet. C. lessee is better able to resell the asset at the end of the lease. Answer = A A is correct. The lessor often retains the tax benefits of ownership of the leased asset, which allows the lessor to pass those savings along to the lessee in the form of lower financing costs or other attractive terms.

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CFA Level 1 Practice Questions for Financial Statement Analysis

CFA Level 1 Practice Questions for Financial Statement Analysis

1. An analyst gathers the following information about a company:

CFA Level 1 Practice Questions for Financial Statement Analysis

CFA Level 1 Practice Questions for Financial Statement Analysis Answer: C

Answer: C Enron classified financing cash flows as operating cash flows.

105. The following information is from a companys investment portfolio:

CFA Level 1 Practice Questions for Financial Statement Analysis

The diluted EPS is closest to: A. $2.91. B. $2.93. C. $3.08. Answer = A

CFA Level 1 Practice Questions for Financial Statement Analysis Answer = B

CFA Level 1 Practice Questions for Financial Statement Analysis

CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C

CFA Level 1 Practice Questions for Financial Statement Analysis

Coupon rate 6% paid annually on December 31 Market rate at issue 4%

CFA Level 1 Practice Questions for Financial Statement Analysis Answer = C

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